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The Department of Trade and Industry has amended its regulatory guidance on rolled-up holiday pay officially outlawing the practice.
The move follows a European Court of Justice ruling in March, which stated that the practice of including holiday pay in workers' hourly rates rather than providing a set period of leave was unlawful.
In a statement, the DTI said: "Rolled-up holiday is considered unlawful and employers should renegotiate contracts involving rolled-up holiday pay for existing employees/workers as soon as possible so that payment for statutory annual leave is made at the time when the leave is taken.
"Where an employer has already given rolled-up holiday pay in relation to work undertaken, and the payments have been made in a transparent and comprehensible manner, they can be set off against any future leave payments made at the proper time."
TUC general secretary Brendan Barber welcomed the law change.
"By acting swiftly on the recent ruling the government will make it harder for bad employers to cheat their staff out of their holiday pay," he said. "In the past, it has been all too easy for employers to say they are paying staff for their holidays without ever coughing up an extra penny."
"After almost 10 years of campaigning unions have won up proper holiday pay for a million construction workers and agency temps," he added.
